Commentaries (some of them cheeky or provocative) on economic topics by Ralph Musgrave. This site is dedicated to Abba Lerner. I disagree with several claims made by Lerner, and made by his intellectual descendants, that is advocates of Modern Monetary Theory (MMT). But I regard MMT on balance as being a breath of fresh air for economics.

Saturday, 31 August 2013

Summary.
Kotlikoff and PM agree that as regards money which depositors want to use for
transaction purposes and/or which they want to be completely safe, that money
should not be invested or loaned on: it should simply consist of or be backed
by monetary base.

In contrast,
and as regards money which depositors want their bank to lend on or invest,
Kotlikoff argues that money should go into a unit trust (“mutual fund” in the
US) of the depositor’s choice. As with existing unit trusts,
depositor-investors carry the full risk.

As against
that, PM says the money should be invested in such a way that the bank and depositor-investors
SHARE the risk.

The latter
arrangement is essentially a hybrid or compromise between having banks simply
store money (without investing it) and straightforward investing (as on the
stock exchange). It is argued below that there is no case for that hybrid: it
falls between two stools. I.e. Kotlikoff’s system is preferable.

__________

PM’s system
is set out in Chapter 6 of “Modernising Money” (2012) – printed by TJ
International Ltd. The system is also set out in a work co-authored by Richard
Werner and the New Economics Foundation.

Under PM’s
system, where depositors want their money to be loaned on or invested,
depositors’ money is no longer instant access. They can choose the period of
notice required before withdrawal is allowed, plus they can choose the
proportion of risk they accept. And the interest they get varies with the
amount of risk accepted and with the period of notice.

Under PM’s
system, depositor/investors get back £X for every £X they put in, except where
the bank goes bust. The authors of Modernising Money (MM) do not actually say
what constitutes bank failure (p.201). “Bust” or “insolvent” normally means the
value of investments or loans made by the bank has fallen below the amount of
cash (£X or whatever) that the bank owes depositor/investors. But the authors
don’t say whether the failure of just one type of account triggers bankruptcy
proceedings, or whether a larger number need to fail.

Problems
with MM’s investment accounts.

1. Assuming
bank insolvency is triggered by the failure of just one type of investment
account (likely to be a risky type of account), that will involve a lot of
inconvenience for those who have chosen safer types of investments. Going
through bankruptcy proceedings could take weeks or months.

In contrast
under Kotlikoff’s system, if a bunch of people who have made risky investments
lose half their money, that is of no concern to, and does not affect those who
have chosen safer investments. There is no need for the latter to be messed
around by bankruptcy proceedings.

Moreover, if
one type of investment account does particularly badly (say assets drop to one
third of what’s owed to the account’s depositors) then under MM’s system those
depositors will walk away with about a third of what they put in. But that happens
AUTOMATICALLY under Kotlikoff’s system. That is, if the assets of a unit trust
drop to a third of the initial value of investments, then the value of the “unit
trust units” drops by a similar amount. But the under Kotlikoff’s system, the “account”
or unit trust battles on: i.e. there is no need for bankruptcy proceedings.

2. On p.183
of MM there is a heading: “The Investment Account will not be money.”

This section
deals with possibility that money in an investment account or the investment
account itself might still be used as a form of money. The example given is the
assignment of money in such an account over to a car dealer in payment for a
car.

It’s right
to be concerned about this. Indeed Irving Fisher was concerned about this in
the 1930s. On p.15 of his book “100% Money” he says “deposits could be used as
money so that the lending department also issue money or the quasi money of
demand deposits.”

However I
doubt this would be much of a problem. My experience of buying cars is that car
dealers want one thing and one thing only: cash.

But to the
extent that this is a problem, the problem does not arise under Kotlikoff’s
system: that is, there is no way unit trust holdings are ever counted as cash (nor
are unit trust holdings ever accepted by car dealers).

3. Under PM’s
system, depositor/investors cannot get at their money till after a month or
more’s notice. Under Kotlikoff’s system, if depositor/investors they want their
money out in a hurry, they can get it. They may make a loss, break even or make
a profit in doing so, but at least they can get at it.

4. Page 184
gives us the authors’ reasons for investment accounts of the type they propose
rather than a Kotlikoff type system. The authors say that any loss made on
investments “will be split between the bank and the holder of the Investment
Account. This sharing of risk will ensure that incentives are aligned correctly,
as problems would arise if all the risk fell on either the bank of the
investor. For example, placing all the risk on the account holder will
incentivise the bank to make the investments that have the highest risk and
highest return possible..”

Well that
problem is dealt with by giving depositor/investors the choice as to what is
done with their money!!! (See bottom of p.184). For example, to cater for
depositor/investors wanting something ultra-safe banks would doubtless offer
accounts that just supplied mortgages to British households with a minimum 20%
or so equity stake in their house. That’s as good as 100% safe.

As to what
might be called the opposite problem, namely an arrangement where banks have no
skin in the game, the authors claim banks would have no incentive to make good
investment decisions.

Well that
problem is dealt with by existing unit trusts by giving staff a bonus depending
on the performance of the trust. Indeed banks are notorious for giving staff an
incentive to do things, some of them not in the best interests of customers. In
short, giving bank or unit trust staff an incentive to make worthwhile
investments, without the bank actually taking a stake itself in the investment
is not difficult.

5. At the
bottom of p.184 says in respect of investment accounts that “the broad categories
of investment will need to be set by the authorities.” That’s debatable.

The stock
exchange and the unit trust industry already offer investors a huge range of
types of investments, and all without any instructions by politicians or
bureaucrats. However, it would probably be an idea to force every bank to make
available to customers some sort of very safe type of investment, like the
above mentioned mortgages where house owners had a 20% or so minimum equity
stake. In fact the relevant accounts / unit trusts could be called “building
societies” a term with which UK citizens are familiar and which would a
perfectly fair description of the unit trusts concerned.

6. (p.185).
This page sets out three types of account that each bank has at the Bank of
England (“Operational”, “Investment Pool” and “Customer Fund”).

This is unnecessary
bureaucracy. The basic and very simple rule that underlies Kotlikoff’s system
is: “transaction/current accounts must be backed by central bank money”. As to
investors, they can pretty much do what they want. E.g., and taking a far-fetched
example, if someone wants to pay for an investment not by using money but by
paying the investee with crates of whisky, that’s of no concern to anyone,
apart from the investor and investee.

Indeed, the
latter example is not all that far-fetched: there are firms that offer employees
shares in the firm related to how long employees have worked for the firm. Such
employees are in effect paying for their investment with their labour.

7. Bank
runs. Bank runs have taken place throughout history and the crisis in the US
was essentially a run on the shadow bank industry. Bank runs occur precisely
because of the promise that banks make to return to depositors a specific sum
of money. As soon as there is a rumour that a bank won’t be able to return that
sum of money, depositors might as well get their money out.

In contrast,
under Kotlikoff’s system, if the general view is that a particular unit trust
is doing badly, the value of the relevant trust units falls. Depositors can
sell their stakes if they like (probably at a loss), but the bank or unit trust
does not face bankruptcy or insolvency for the simple reason that it does not
owe any specific sum of money to anyone.

That point
was explained in more detail in a Wall Street Journal article by John Cochrane.

8. A
possible argument for the MM type investment account is that it enables
depositor-investors to get some sort of return on their money, while avoiding
the possibility of total loss.

Well the
answer to that is that they can do that under
Kotlikoff system by putting some of their money into a safe account (or
cash only unit trust) and the rest into a unit trust which lends on or invests
money.

Conclusion.

Positive
Money is heading in the right direction in that the system it advocates
involves making depositors choose between on the one hand safe / transaction
accounts and on the other, investment accounts. However, PM’s investment
accounts are a compromise or hybrid between two extremes: first, lodging money
in a bank with the bank not lending on or investing the money, and second,
straightforward stock exchange type investments. The hybrid does not achieve
anything: it falls between two stools.

Wednesday, 28 August 2013

An article
in today’s Financial Times by Robin Harding draws attention to the
destabilising international capital flows that resulted from QE, and claims
there is no solution to the problem. He quotes Prof. Helene Rey as saying “it
is hopeless to expect the Fed to set policy with other countries in mind…”

Well
actually there is a solution: abandon monetary policy as far as possible as a
means of adjusting aggregate demand, as I argued here

So thanks
to Robin Harding and the Financial Times for inadvertently supporting my point.

Sunday, 25 August 2013

I argued here and here that deposit insurance is a farce for the
following reasons.

The additional interest that depositors will want from putting their
money in a commercial bank rather than in something ultra-safe (like government
debt or simply holding monetary base) will simply reflect the additional risk
involved. Plus to insure against that risk, the insurance premium will have to
reflect and be equal to the risk involved. Ergo the premium wipes out the extra
interest.

However, that argument could be attacked on the grounds that insurance
spreads risks, thus deposit insurance will in fact cut costs as compared to
where depositors insure themselves.

My answer to the latter point is that it ignores the difference between on
the one hand potentially catastrophic / ruinous risks and on the other hand,
more manageable risks. To be exact, anyone undertaking a potentially ruinous
risk will want a relatively large reward for doing so. Thus if that risk is
spread in such a way that no individual faces a ruinous risk, the total cost of
insurance will decline.

However, commercial banks are one huge “risk spreading” operation ANYWAY:
i.e. a typical commercial bank might have a million or more depositors and an
approximately equal number of borrowers. So risks are shared between those million
or so depositors.

Ergo, commercial banks already and very largely dispose of the risk of
ruinous loss (by that I mean depositors losing more than 75% or so of their
money). And the latter idea is actually backed up by figures from the FDIC
relating to the relationship between assets and liabilities of small FDIC
insured banks which go bust. That is, it is unheard of for insolvent banks to
have zero assets. Rather, assets normally amount to about 75% of liabilities,
with an asset to liability ratio of less than 50% being a rarity.

As to large banks, they by definition involve even more risk sharing, so
the chance of any depositor (absent deposit insurance) facing ruinous loss is
even smaller.

Minor risks.

As distinct from potentially ruinous risk, there are manageable or minor risks. In
the case of the latter, working out the required insurance premium is a very
mundane matter. To illustrate, if the chance of depositors losing 50% of their
money in any one year is 1%, then a premium needs to be 1% of 50%, i.e. 0.05%
of the capital sum insured. And that 0.05% won’t change if the risk is spread
(e.g. if deposit insurance is implemented).

So I’m sticking to my story that deposit insurance achieves nothing.

That of course leaves the question as to whether depositors are not
entitled to some form of near 100% safe form of saving or lodging their money.
Well of course they are! And the way to do it has been set out by Laurence
Kotlikoff, Matthew Kline and by this lot.

Friday, 23 August 2013

They’ve spent
tens of millions tunnelling thru mountains and setting up microwave links so as
to cut milliseconds off the communication time between Chicago and New York: it’s
to make sure New York traders don’t have too much of an advantage over Chicago
traders.

This is
ridiculous. It’s a waste of money. Why doesn’t everyone involved just agree to
trade once per second or per every tenth of a second. Then everyone in the US,
or indeed in the World would be on an equal footing. Or perhaps I’ve missed
something.

Wednesday, 21 August 2013

I happened to tune into the Archbishop’s speech to Synod (made in July
this year) while watching television today. I wasn’t spiritually uplifted.
Amongst other things he said:

“And
as the Synod meets today, we are custodians of the gospel that transforms
individuals, nations and societies.

Er no . . . the Church for the most part has stood
in the way of nations being transformed. Prior to the French revolution, the
Church was on the side of the aristocracy, not the poor. And it was largely the
church elders backed the house arrest of Galileo for the last ten years of his
life for having the temerity to claim the Earth revolves round the Sun. Plus
they opposed Darwin’s theory of evolution when it first appeared. I could go
on, but the general point is that when it comes to the really important or
“transformational” issues the Church has never been much of a guide: it’s
always on the side of the establishment.

The archbishop then said: “With all parties
committed to austerity for the foreseeable future, we have to recognise that
the profound challenges of social need, food banks, credit injustice….”

So who has really got to the bottom of the flaws in
the pro-austerity argument over recent years, rather than just shouted and screamed
about the problem? Not the Church. It’s
advocates of Modern Monetary Theory (like me) and others. Doh!

Next, the archbishop said:

“..truth
is not set by culture, nor morals by fashion…”. Wrong again. Morals are almost
entirely a matter of fashion. For example, the morality of central America
before the arrival of Europeans about 500 years ago dictated that human
sacrifices were necessary in order to placate the Gods. Now what exactly is
“moral” about human sacrifice? Darned if I know.

And the
morality of Ancient Egypt dictated that everyone spent hours every day lugging
large blocks of stone around so as to build million ton pyramids in which to
bury dead kings and queens. Effing waste of time, strikes me, but what do I
know?

And the
morality of some societies (past and present) dictated that homosexuality was just
fine, while in others it dictated that homosexuality was a cardinal sin. So
morality is very much determined by fashion.

Anyway,
while the Archbishop is a nice bloke, I can do without his advice. My
religion is that expounded by Jean Paul Sartre: existentialism. Which roughly
speaking consists of just one principle: “s*dding think for yourself”. Though existentialism
is actually more subtle than that. It actually says that you have no option but
to think for yourself. That is, you can follow some creed if you like (e.g.
Buddhism), but it was you that chose to follow that creed, so the idea that you
follow a creed is self-contradiction: you’re still thinking for yourself. You
have no other option.

Non-peer reviewed (or only lightly peer reviewed) publications. The coloured clickable links below are EITHER the title of the work, OR a very short summary (where I think a short summary conveys more than the title).

i) The above is not a complete list in that earlier versions of some papers have been omitted. For a more complete list see here, and “browse by author” (top of left hand column).

ii) 7 deals with a wide range of alleged reasons for government borrowing, including Keynsian borrow and spend. 6 is an updated version of the "anti-Keynes" arguments in 7. 5 is an updated version of 1, which in turn is an updated version of 4.

______________

.

Bits and bobs.

.

As I’ve explained for some time on this blog, the recently popular idea that “banks don’t intermediate: they create money” is over-simple. Reason is that they do a bit of both. So it’s nice to see an article that seems to agree with me. (h/t Stephanie Schulte). Mind - I've only skimmed thru the intro to that article.________

Half of landlords in one part of London do not declare rental income to the tax authorities. I might as well join in the fun. I’ll return my tax return to the authorities with a brief letter saying, “Dear Sirs, Thank you for your invitation to take part in your income tax scheme. Unfortunately I am very busy and do not have time. Yours, etc.”________

Simon Wren-Lewis (Oxford economics prof) describes having George Osborne in charge of the economy as being “similar to someone who has never learnt to drive, taking a car onto the highway and causing mayhem”. I’ll drink to that.

Unfortunately SW-L keeps very quiet, as he always does, about the contribution his own profession made to this mess. In particular he doesn’t mention Kenneth Rogoff, Carmen Reinhart or Alberto Alesina – all of them influential economists who over the last ten years have advocated limiting stimulus (because of “the debt”) if not full blown austerity.________

Plenty of support in the comments at this MMT site for the basic ideas behind full reserve banking, though the phrase “full reserve” is not actually used.________

Old Guardian article by Will Hutton claiming the UK should have joined the Euro. Classic Guardian and absolutely hilarious.________

One of the first “daler” coins (hence the word “dollar”) weighed 14kg.!!! Imagine going shopping for the groceries with some of those in your pocket, or should I say “in your wheelbarrow”. (h/t J.P.Koning)________

Moronic Fed official reveals that GDP tends to rise when population rises. Next up: Fed reveals that grass is green and water is wet….:-)________

Fran Boait of Positive Money says the Bank of England "has no capacity to respond to a future crisis, and that puts us in an extremely dangerous position." Well certainly there are plenty of twits at the Treasury and at the BoE who THINK responding will be difficult. Actually there's an easy solution: fiscal stimulus, funded (as suggested by Keynes) by new money. Indeed, that’s what PM itself advocates. But it’s far from clear how many people in high places have heard of Keynes or, where they have heard of him, know what his solution for unemployment was.________

The US debt ceiling has been suspended or lifted 84 times since it was first established. You’d think that having made the Earth shattering discovery 84 times that the debt ceiling is nonsense, that debt ceiling enthusiasts would have learned their lesson, wouldn’t you? I mean if I got drunk 24 times and had 24 car crashes soon afterwards, I’d probably get the point that alcohol causes car crashes…:-) As for getting drunk 84 times and having 84 car crashes, that would indicate extreme stupidity on my part. No?________

The US Treasury has the power to print money (rather in the same way as the UK Treasury printed money in the form of so called “Bradburies” at the outbreak of the first World War).________

“Payment Protection Insurance” was a trick used by UK banks: it involved surreptitiously getting customers to take out insurance against the possibility of not being able to make credit card or mortgage payments. UK banks have been forced to repay customers billions. But that’s just one example of a more general trick used by banks sometimes called “tying”: forcing, tricking or persuading customers to buy one bank product when they buy another. More details here on the Fed’s half-baked attempts to control tying in the US.________

The farcical story of economists’ apparent inability to raise inflation continues. As I’ve long pointed out, Robert Mugabe knows how to do that. In fact Mugabe should be in charge of economics at Harvard: he’d be a big improvement on Kenneth Rogoff, Carmen Reinhart and other ignoramuses at Harvard.________

I’ve removed comment moderation from this blog. The only reason I ever implemented it was so as get rid of commercial organisations advertising something and posing as commenters. When doing that I noticed comments were limited to people with Google accounts for some strange reason. Removed that as well. ________

Article on money creation by Prof Charles Adams, who as far as I can see is a professor of physics at my local university – Durham. I can’t fault the first half of his article, but don’t agree with the second half which claims both publically and privately issued money are needed because we have a public and private sector. I left a comment.

Adams is nowhere near the first physicist to take an interest in money creation. Another is William Hummel. These “physicist / economists” are normally very clued up (as befits someone with enough brain to be a physicist).________

.

MUSGRAVE'S LAW SOLVES THE FOLLOWING PROBLEM.

The problem. Deficits and / or national debts allegedly need reducing. The conventional wisdom is that they are reduced by raising taxes and / or cutting government spending, which in turn produces the money with which to repay the debt. But raised taxes or spending cuts destroy jobs: exactly what we don’t want. A quandary.

The solution. The national debt can be reduced at any speed and without austerity as follows. Buy the debt back, obtaining the necessary funds from two sources: A, printing money, and B, increasing tax and/or reduced government spending. A is inflationary and B is deflationary. A and B can be altered to give almost any outcome desired. For example for a faster rate of buy back, apply more of A and B. Or for more deflation while buying back, apply more of B relative to A